A new report by the UN lays out the threat posed to the general insurance industry by climate change – and how risk engineering can ease the transition to net-zero emissions.
Climate change is arguably the greatest risk to our global and economic security. The general insurance industry is particularly vulnerable to this risk because it holds such a large amount of global economic assets and liabilities. That’s why Zurich is actively engaged in understanding and helping mitigate current and emerging climate threats – and why all risk managers should understand the latest developments in climate risk.
As one of the world’s largest insurers, Zurich has long played a leading role in helping guide the world’s economies to net-zero emissions1. So we were pleased to see that the UN’s recently released Insuring the climate transition report, which takes a deep dive into climate-related issues affecting the general insurance industry, has many parallels with our approach to climate risk. For instance, our risk engineering team has developed a Climate Change Resilience service and can also adapt our Zurich Hazard Analysis (ZHA) – our methodology for identifying, assessing and managing risks – to evaluate a customer’s exposure to climate change.
Mervyn Rea is Head of Zurich Resilience Solutions for Australia and New Zealand. This newly created unit contains our Risk Engineering function and is focused on servicing customers and our underwriters with risk management support. It has also developed solutions for Cyber Security, Supply Chain Risk Management and Climate Change Resilience.
Rea says there are recommendations for listed companies to consider and report on climate change risk under the ASX’s Corporate Governance Council’s Corporate Governance Principles and Recommendations.
“However, this doesn’t mean that all non-listed businesses can ignore this exposure. If they do, they do at their own peril,” says Rea. “The question is: If the risk landscape changes dramatically and quickly, will the traditional methods of risk transfer remain in place?”
So, what are the key takeaways of the UN report – and how can they help us better understand its potential impact on the general insurance industry?
Understanding physical risks
The UN Insuring the climate transition report looks at three categories of risk, within three different climate change scenarios:
- A rapid transition to below 2°C target.
- A 2°C target.
- Business as usual, which would lead to a 4°C world.
The first category, physical risks, examines the potential impact of increasingly extreme weather events, temperature changes, rainfall and sea level rises on vulnerable regions. It also considers the impact these physical events may have on different lines of insurance business and insurance products.
Rea says the report’s risk heat map, which examines the potential impacts of nine specific hazards on different regions including Australia in 2030 and 2050, is a particularly valuable tool for insurance brokers.
“The risk heat map concept is a great way to start conversations with customers, and to conduct climate change hazard analysis,” he says. “The data can also be used to assess the likely impact of changing risk profiles, and how that would impact customers’ sustainability and profitability.”
For instance, the Bird in Hand winery in Adelaide Hills recently announced it is the latest in a growing list of winemakers to take action on climate change risk. The winery is developing vineyards in Tasmania to stave off the impacts of a changing climate on its traditional sources of grape.
Rea also points to the flood and cyclone ‘issue tree diagrams’ in the report – two flow diagrams that provide a clear visual map of related insurance issues.
“The issue tree diagrams could be used to steer conversations with customers about how they can better manage their risk against flood or cyclone, depending on their region – and how climate change could impact their business resilience and risk management strategies.”
The complexity of transition risks
As the world moves to decarbonise our economy, changes to energy use, transport, agriculture and other industries will have flow-on effects on the world’s economic, regulatory and technological landscape. This is known as transition risk. So, if wineries, for example, consider other locations to protect their business productivity interests, there are other impacts to consider such as access to skilled workforces, transport & logistics and differing regulatory regimes.
Analysing and assessing transition risk is complex and driven by a range of business dynamics. However, the report suggests the following three-step approach could be an effective way to analyse transition risk drivers:
- Use the climate change risk heat map to identify material effects.
- Specify impact pathways – how different lines of business might be affected.
- Perform financial analysis for material pathways.
The report includes two in-depth case studies that illustrate this three-step approach.
“One case study looks at energy production in France and Poland, and the other examines the impact of low-carbon transition on Australian real estate,” said Rea. “The second case study gives a very comprehensive overview of how transition risk could impact fire insurance and engineering and construction insurance in this country.”
Don’t underestimate litigation risk
Increasingly, businesses that fail to act on climate risk will be vulnerable to litigation. But the UN report points out that currently, insurers are yet to place significant focus on this issue – perhaps because they haven’t had to pay out claims for climate change lawsuits. But Rea points out this is likely to change.
“Failure to address known risks like climate change could result in class actions from disgruntled shareholders,” he said. “It’s clear that the financial sector, including insurers, aren’t immune to climate change litigation.”
1 Zurich, Zurich launches dedicated Climate Change Resilience Services to help businesses tackle climate change risks, 17 September 2020.